Globalisation: a ten minute guide

Our expensive Philips kettle gave up the ghost. I was really pleased to find a €10 replacement. It has auto-shutoff, a mesh filter, a base-station (meaning the kettle can be moved around unencumbered by the power cord) and it is easy to clean and descale. These were the key functions of the previous kettle which was six times more expensive. Of course, the new kettle is made in China. It is branded by a local trader, and comes with clear instructions in several local languages.

In Europe, there is still disquiet about the rise of Chinese manufacturing and the "shift" or "loss" of jobs. And at first glance, I have to admit that it can seem that "everything" is coming from China. So I will attempt a quick guide to why I think my €10 kettle is a good thing.

1. We don't buy from China, we trade with China.

If Europe bought everything from China, it would end up with a pile of Chinese kettles, toys, DVD players and iPods. The Chinese end up with ... a pile of Euros. We all learn that paper money is worth nothing intrinsically, it is only worth something in exchange (although my nine-month-old daughter finds paper a tasty treat). If you are sitting on a pile of Euros in the middle of China, that's really clear. My point: we can only buy from China if it buys from us. This is called trade, and it's a good thing. No one forces us to buy cheap consumer goods from China; it's just the Chinese at the moment offer the best deal. The Chinese are happy to accept Euros because they are worth something: they can be exchanged for products and services made in Europe. If the Chinese didn't want European products, trade would not be possible. This problem for Europeans lead to the Opium Wars of the 18th and 19th centuries. The European powers were very keen to buy products from China, but the Chinese authorities didn't want to buy anything from Europe. Like I say, without trade there is no buying. This was a show-stopper. So the Europeans came up with a product the Chinese would definitely want, and in repeat orders: opium. Luckily for the cause of moral trade, Europe can now offer Disney World Paris, Chanel No. 5 and an education at Oxford, not to mention the precision motorcars and advanced machinery of the greatest exporter in the world, Germany.

2. Don't be so arbitrary

This one really bugs me. When I first moved to the Netherlands, I bought a Toyota (2nd hand). A Dutch colleague asked my why I bought a Japanese car, not a "European" car (skipping over the fact that it was made in an European factory). "Arbitrary" means drawing a line in one place instead of another place for no good reason, and then making a big deal of it. Why it ok to buy a car made from unknown Germans who we will never meet personally, when it is not ok to buy a car made by unknown Japanese? A 100 years ago, buying products from a different country would have upset the predecessors of today's anti-globalists, and 100 years before that, their grandfathers were complaining about people who dared to buy vegetables from the town 20 km down the river. "Globalisation" is a name for something that has always been happening. Only in the last few years has China's share of the world economy returned to where it was 150 years ago. In a few centuries, perhaps some people will be complaining about buying products made more cheaply in low-gravity factories on the Moon, not from Earth.

This simplistic point of view is "tribe" behaviour. There is a rational reason behind it: solidarity. People who think like this are threatened, and are seeking allies against a threat. The protectionist countries in Europe always vote as a block: the Italians will defend German industry when they have no jobs at stake, in return for some help later. But while it is rational in the selfish sense, it creates local losers. The only pay-back being sought (I scratch your back, you scratch my back) is to protect narrow self interests, which will hurt Europeans more than people anywhere else. Blocking cheap Chinese clothes is nothing more than forcing Europeans to pay more for clothes made somewhere else, and this can not be good for poor Europeans. See 5 below.

3. The Chinese don't get a very good deal

One reason why the kettle was only €10 was that it didn't sport a famous brand. The shelf price includes a hefty mark-up for famous brands. I'm not going to discuss whether that mark-up is worth it, although it often is, I just point out that the shelf price consists of many "adders" that don't ever get to China. I know that a Chinese light bulb sold in a European supermarket for €5 leaves the Chinese factory for €0.50. Remarkable as it may seem, it is true. The Chinese factory makes less than €0.05 in margin. The rest of the money is tax, profit for the European retailer, profit for the European brand holders, wage costs for the product designers, packaging designers, advertising agencies, wage costs for the person who stocked the shelf, for the truck driver who brought the lamp from the port, more for truck driver who delivered the product to the store, wages for the logistics team that manages the complex flow of lamps from China to thousands of supermarket shelves around Europe, rent costs ... nearly all of the shelf price stays quite local. By far the biggest part of the value of a product has on the shelf is nothing to do with where it was screwed together.

And while some of us worry about the Chinese taking our jobs, the biggest threat for the Chinese is the factory next door. The European truck drivers, shelf stackers, product designers, advertising agencies etc behind alll that added value will still get there big share of the pie regardless of which Chinese factory makes its tiny contribution.

4. The jobs don't disappear. They change

If you read the paragraph above, you probably have no interest in starting a factory in Europe making cheap consumer goods. There isn't much money in it. But you can try. You won't find enough employees though; they are doing other things. This isn't a silly joke. Even in Poland, a still-emerging economy, it is getting very hard to find low-skilled labor. Of course, you could offer the workers enough money to persuade them to leave university, to give up nice jobs looking after the children of wealthy London bankers, or processing accounts in the new European shared service center based in Lodz, or whatever they are doing. But then you also need to ask European consumers to voluntarily pay more for the identical product.

Well, you don't have to ask them. You could force them to pay more. That's the next section.

For sure, globalisation will destroy jobs. So did the PC: it destroyed all the jobs in the 'typing pool'. A growing economy reallocates people to jobs where they add more value. It does this because people get better educated, because our offices and our factory have better tools allowing one person to do more, although they have to be more skilled. Since someone needs to make light-bulbs and T-Shirts, better for Europe that this happens somewhere else, freeing up the shrinking population of European workers to do more valuable things with their time. An alternative is to bring millions of Chinese to Europe, but this doesn't seem to be a winning idea with European electorates.

5 And you can't fairly do anything about it.

So despite the above, you're not convinced. If the Chinese can make a T-shirt for €0.50 and the Italians can't do it for less than €2.00, then the Chinese are cheating Italians out of jobs and they must be stopped. I'm going to pick on the Italians because the Italian governments are knee-jerk protectionists who should be completely ashamed of themselves.

Of course, you could simply appeal to Europeans to voluntarily pay more for the Italian T-shirt. Such a difference in manufacturer cost price could mean that the Chinese T-shirt retails for €5, and the Italian T-shirt for €20. Let the consumer choose! Of course, a sensible consumer seeing no difference would rather have €15 to spend on something else. However, the Italian industry will lobby for another solution. They will ask the European consumer to be forced to pay €20, and they do this by convincing the EU to impose a high duty on the Chinese shirt. The industry "proves" that the Italian price for making a T-shirt is the fair price; the Chinese must be cheating somehow. There are complex rules to determine this, and they are strongly biassed against the Chinese (in full WTO compliance, of course). So now consumers see a €20 T-shift from China next to a €20 T-shift from Italy, and under those circumstances the Italians can sell a few. The Italian T-shirt factories are safe, and jobs are saved (not to mention profits for the factory owners). Heck, the government even has more tax to spend on schools. Great!

Now, let's pick apart these arguments.

Firstly, how do we know that the Italian price for a T-shirt is a fair price? Some people say that the Italian textile industry is expensive because it is mainly small firms of less than 100 people, with a very low level of investment in the past ten years (they say that because it is true). Imagine next year, the Italian T-shirt industry says that the fair retail price should be €25 because the industry now wants people to retire on full pensions at age 55; the fact that Chinese or Vietnamese workers can't do this is simply an attack on the European way of life. Or imagine that the Chinese are cheaper because they invested in automatic machinery. The Italians say "making T-shirts by hand is a traditional practice, at the heart of the European way of life, keeping people close to ancient traditions". Some of my points are parodies, but they are themes to many protectionist arguments in Europe.

The fact it, the only way to really measure the fair value of something is to find out how much someone is selling it for, and we use the cheapest price. Competition means over time, things will get cheaper because someone thinks of way to reduce cost (such as investing in steam engines, then electric motors, then computers...) They may automate factories, they may build larger factories. But if you protect an industry, then you remove its incentive to innovate.

Now, who loses when high tariffs are applied? Mostly, Europe does. Let's say that every European buys 5 T-shirts a year. People have to buy clothes, and to keep it simple, let's pretend that the only shirt you can get is a T-shirt. Therefore, everyone spends 5 * 20 = €100 on t-shirts.

If the Chinese are allowed to compete, consumers can now get their clothing requirement for 5 * 5 = €25. This means European consumers get €75 richer while still meeting their annual t-shirt requirement. The tax man misses out on collecting the high duties, but Europeans have a lot more money to spend on other things (or to invest). It's incredible: simply by allowing fair competition, the wealth of Europe increases immediately and hugely! Unfortunately, some Italian jobs will be lost, unless the Italians learn to make T-shirts just as cheaply as the Chinese (unlikely: T-shirts are just really easy to make), or perhaps they think of making designer clothes to attract some of that extra €75. Of course, this would require the Italians to be good at design, fashion and niche products. Oh, they are! Northern Italy is full of such companies.

The other crazy thing about high tariffs is that it locks in Italian workers to making cheap products that have no chance of being exported. And a good deal of the subsidy helps the factory owners rather than the workers. Did I point out already that this is the same country which has a low birth rate and a sharply declining pool of workers? I tear out my hair at how stupid it is. This is the road to decline. The sun will set on an aging Europe; it will gently fade away from the stage, a lingering dawdle into irrelevance. And the supreme irony is that European consumers, who complain about high taxes, are paying for this magnificent sabotage of their own future.

The EU can force European consumers to pay way too much for clothes, but they can't make Australians or Americans. With no incentive to get better, the Italians will be asking Americans to pay very high prices for T-shirts, and you can guess the answer from American consumers. It's a tragedy. What incentive have those Italian workers got to learn how to make up-market clothes? How can they motivate their children to work hard at school when the EU will guarantee them a nice living operating a sewing machine, a skill that hasn't changed in 100 years? What incentive do the factory owners have to invest in new technology? None. If you do this over the whole economy, Europe would end up not being able to sell anything outside of Europe. And if you can't sell, you have nothing to trade. Rather than protecting standard of living, tariffs destroy them. That's why I hate them: because they are greedy, selfish, unfair and stupid.